Stability in a Network Economy: The Role of Institutions

Abstract

We consider an economy in which agents are embedded in a network of potential value-generating relationships. Agents are assumed to be able to participate in three types of economic interactions: Autarkic self-provision; bilateral interaction; and multilateral collaboration through endogenously provided platforms.We introduce two stability concepts and provide su cient and necessary conditions on the network structure that guarantee existence, in cases of the absence of externalities, link-based externalities and crowding externalities. We show that institutional arrangements based on socioeconomic roles and leadership guarantee stability. In particular, the stability of more complex economic outcomes requires more strict and complex institutional rules to govern economic interactions. We investigate strict social hierarchies, tiered leadership structures and global market places.Keywords: Network economies; Bilateral and multilateral interaction; Stable outcomes; Institutional stability.JEL codes: C72, D71, D85 * is paper has bene ted from the constructive comments of two anonymous referees. We also thank Gerard van der Laan, Graham Brownlow, Owen Sims and Dimitrios Diamantaras for insightful comments on earlier dra s of this paper. Also, we recognize the Netherlands Organization for Scienti c Research (NWO) for nancial support to make this research possible. †

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